Romney’s cuts would harm economy

The United States is beset by four deficits: a fiscal deficit, a jobs deficit, a deficit in public investment and an opportunity deficit. The budget proposals put forward by presidential candidate Mitt Romney and his running mate, Paul Ryan, could reduce the fiscal deficit but would exacerbate the other three.

To be sure, Romney and Ryan have failed to provide specifics about how they would reduce the fiscal deficit, relying on “trust me” assertions. But the overarching direction of their proposals is clear: more tax cuts, disproportionately benefiting those at the top, coupled with significantly lower non-defence discretionary spending, disproportionately hurting everybody else – and weakening the economy’s growth prospects.

Despite 30 months of private-sector jobs growth, the US still confronts a large jobs deficit. The unemployment rate remains more than 2 percentage points above the “normal” rate (when the economy is operating near capacity). Moreover, the labour force participation rate remains near historical lows.

More than 11 million additional jobs are needed to return the US to its pre-recession employment level. At the current pace of recovery, that is more than eight years away. In the meantime, persistent high unemployment reduces the economy’s growth potential by robbing today’s workers of skills and experience.

Without revealing which programs he would reduce, Romney promises to slash federal spending by more than $US500 billion in 2016, capping it at 20 per cent of gross domestic product thereafter. He also promises an immediate 5 per cent cut in non-defence discretionary spending in 2013, on top of the huge cuts already scheduled to take effect. And he has ruled out additional temporary fiscal measures aimed at job creation, like President Barack Obama’s proposals for additional grants to states and additional infrastructure spending.

Romney acknowledges that large spending cuts, along with the scheduled expiration of tax cuts at the end of this year, could throw the economy back into recession in 2013. But he vows to steer the economy from the fiscal cliff by extending the tax cuts enacted under George W. Bush, doubling down with a further 20 per cent across-the-board cut in income tax rates and cutting the corporate rate from 35 per cent to 25 per cent.

With the possible exception of the extension of the Bush-era tax cuts, these changes would take considerable time to implement. Even when enacted, their near-term effects on job creation would be minimal. An across-the-board reduction in tax rates performs poorly in terms of budgetary effectiveness (the number of jobs created per dollar of forgone revenue). Payroll tax relief and spending on programs like food stamps and unemployment compensation are much more effective.

Romney overstates his tax proposals’ long-term growth effects as well. Reducing individual tax rates and taxes on savings and investment at best fosters modest increases in employment, work effort and income. Despite the Bush-era tax cuts, the 2001-2007 expansion was the worst of the post-war period in terms of investment, employment, wage and GDP growth. Job creation and growth were much stronger following President Bill Clinton’s tax increases in the 1990s.

Moreover, if all of Romney’s additional tax cuts were financed in a revenue-neutral way, as he promises, only the composition of taxes would change; the overall tax share of GDP would not. There is no evidence that this would significantly boost growth, as Romney claims.

Based on what Romney has told us, we can conclude that his plan would exacerbate the public-investment deficit as well. Romney’s vow to cap federal spending at 20 per cent of GDP by 2016, while maintaining defence spending at 4 per cent of GDP and leaving both Social Security and Medicare unchanged for those 55 or older, implies exempting more than 50 per cent of government spending from cuts for the next decade. So, to hit the 20 per cent cap, spending on everything else would have to be slashed by an average of roughly 40 per cent by 2016 and 57 per cent by 2022.

Everything else includes government investments in three major areas on which growth and high-wage jobs depend: education, infrastructure and research. These areas account for less than 8 per cent of federal spending, and their share has been declining steadily. Under Romney, it would plummet to new lows.

Everything else also includes spending on programs that help low-income families, like food stamps, student grants and Medicaid. The Centre on Budget and Policy Priorities finds that almost two-thirds of the Ryan budget’s spending cuts would come from such programs. Romney offers few specifics, but simple arithmetic shows that his plan would require even deeper cuts in these programs than Ryan’s plan would.

Meanwhile, Romney’s plan would actually increase taxes on middle-income families. His plan would pay for lower income tax rates by eliminating tax deductions like those for charitable giving and mortgages, while maintaining tax preferences for saving and investment. But there are not enough tax breaks for the rich to cover another 20 per cent reduction in their income tax rate. That is why the nonpartisan Tax Policy Centre found that Romney’s plan would cut overall taxes for households with incomes above $US200,000 but would require an average annual tax increase of at least $US2,000 for households with incomes between $US100,000 and $US200,000.

Romney’s budget plan would also make the federal tax-and-transfer system considerably less progressive, thereby worsening income inequality, which is already at its highest level since the Great Depression. Rising income inequality fuels a growing opportunity deficit for children born into poor and middle-income families, reflected in disparities in educational attainment by family background and a decline in intergenerational mobility. Under Romney, the opportunity deficit would widen, robbing the country of future talent and productivity.

Romney has provided few details about his deficit-reduction plan. But, based on what he has revealed, we know that it would increase the jobs deficit, the investment deficit and the opportunity deficit, with negative consequences for growth and prosperity.

Copyright: Project Syndicate, 2012.

Laura Tyson, a former chair of the US President’s Council of Economic Advisers, is a professor at the Haas School of Business at the University of California, Berkeley.